It will not be until 2006 when Vietnam is to fully implement the second stage of tariff cuts on imported products under Southeast Asia's free trade area, but authorities are already in a dilemma over how to prepare the market for this.

As Vietnam gears up for deeper economic integration with its Asian neighbours, attention is focused on how the government will handle the case of the automotive industry, now under heavy tariff protection.

What Hanoi does in the case of this important sector will be a test case not only of its implementation of its commitments under the Association of South-east Asian Nations (Asean) Free Trade Area or AFTA, but its determination to embrace market reforms, analysts say.

Should Vietnam open the automotive market wide to competition or should it go on with its policy of market protection is a question often asked. Now there is even talk that Vietnam is considering extending AFTA tariff barriers for automobiles to 2010.

Vietnam began its tariff-dropping schedule in 1996, when it signed onto AFTA. In the next four years, Vietnam slashed tariffs on certain products imported from Asean, but this hardly disturbed the local market.

Enormous impact

But deeper tariff cuts are expected in coming years, and Vietnam is to bring down tariff rates on imports to 0 to five percent by 2006.

This is expected to be the period when the tariff reduction will have an enormous impact on the economy, because the goods to be covered by liberalisation include major products considered "strategic" by the state such as fertilisers, ceramic tiles, household electric equipment, television sets, automobiles and motorcycles.

Vietnam has so far put heavy import tariffs on these products to protect local production and give manufacturers enough time to adjust and prepare for an impending flood of cheap imports.

Imported vehicles like the over-24-seater buses are taxed 50 percent, the 15 to 24-seater buses 100 percent, the five to 15-seater vans 150 percent, and under five seater cars 200 percent.

Currently, Vietnam has 11 joint venture enterprises assembling automobiles for the domestic market, but their combined production is a mere 20,000 vehicles or 10 percent of their total capacity. This is due largely to low demand.

High taxation

In the first quarter of this year, only 5,456 vehicles were sold, mostly in the deluxe category and beyond the budget of the average Vietnamese consumer. These cars are often priced higher than the same models produced abroad because manufacturers have to import parts and components, which are subject to high taxation.

"The price of a car assembled in Vietnam is double that one made in the United States due to our policy of protecting local products," Industry Minister Dang Vu Chu told reporters during the Vietnam Motor Show in Hanoi recently.

To make automobiles cheaper, the government has urged the industry to use more locally-produced parts and components. The Ministry of Industry has in fact issued a localisation policy that provides incentives to vehicle assemblers with the highest local content rates in the cars, buses and trucks they assemble here.

Unfortunately, to date no automotive joint venture has succeeded in raising the local content rate above 15 percent. At the same time, no foreign direct investment has been injected into factories producing the automotive parts and components because investors still consider the market too minuscule.

Says Minister Dang: "The government should reconsider its automobile policy so as to protect consumers' rights. "We should not let Vietnamese customers buy autos (priced) several times more than in other countries."

Two-pronged strategy

To put the automobile industry on track toward competitiveness by the 2006 deadline in for its being covered by AFTA, the industry ministry has thought up a two-pronged strategy: bring in more competition and develop a "Made-in-Vietnam" car.

"Vietnam will develop two kinds of automobiles at the same time. Joint ventures will produce luxury cars as import substitutes, while local manufacturers will produce affordable vehicles that popularise four-wheeled transport in Vietnam," said Industry Deputy Minister NguyenXuan Chuan.

Under the category of cheap or affordable vehicles are the small compact cars or low-priced utility vans and trucks with locally-assembled engines.

Experts at the Japan Economic Research Institute (JERI) here say that in the long-term, Vietnam's automobile industry would not be able to develop and compete with other countries if it concentrated only on manufacturing small-engine and low-priced cars.

The country should instead draw up liberal policies to attract foreign direct investment to fund local production of automobile parts and accessories, they add.

Localisation policy

"We will speed up the localisation policy by using import duties to enforce local content," another ministry official said, but did not give details as to how the government intended to go about it.

Some observers believe that in the first stage Vietnam will open the market to cheap component imports to help local manufacturers produce non-luxury cars and special purpose vehicles. In the next stage, it will give tax incentives to manufacturers of components.

The licensed local companies will assemble automobiles for local consumption with cheap components sourced from countries in the region, but at the same time will join forces to produce more parts and accessories locally with the ultimate goal of developing "Made-in-Vietnam" vehicles, according to officials.

Industry experts forecast that compact cars equipped with small and locally-assembled engines (less than 1.3cc) that retail for under US$10,000 would amply fill the needs of the average customer in Vietnam. In a market crowded with luxury cars, smaller, low-priced cars that are made in Vietnam stand a better chance of carving a niche. — IPS